Q: A new employee must now pay back money she received from her old employer as a Section 127 educational benefit. We will assume this debt as part of our hiring agreement. The hiring manager said that since this was originally a tax-free benefit, nothing is taxable. This doesn’t sound right to me. Who’s correct?
A: The hiring manager is wrong. You’re assuming an employee’s personal debt, which has nothing to do with Section 127 educational benefits. You can consider it a sign-on bonus.
If you don’t want to withhold taxes (and pay the employer’s share of FICA), you’ll have to gross up the payment.